Why are some countries richer than others? Part 1

Transcription

1 Understanding the World Economy Why are some countries richer than others? Part 1 Lecture 1 Nicolas Coeurdacier nicolas.coeurdacier@sciencespo.fr

2 Practical matters Course website Link to Master EMI: Understanding the World Economy Contact No office hours but meetings can be easily organized. Just drop me an .

3 Practical matters Suggested textbooks Macroeconomics, Charles. I. Jones, 2 nd edition. Macroeconomics, S. Williamson, 4 th edition. Other material Slides for the course as well as additional readings/references posted on my website. * = compulsory readings

4 Practical matters Grading 40% homework (group of 4 people). To be handed back at lecture 9. Find an important policy question(yes/no) which deals with a subject of macroeconomics. Find related academic articles (IMF, OECD, Economic Policy, World Bank, NBER or CEPR WP ) and press articles (FT, The Economist, ) which tackle the question. In a 6 pages document (4000 words max.), provide a critical answer to the question. 60% final exam: Multiple choice, short exercise(s), short essay. See website for example.

5 Practical matters Homework suggestions Will Chinese growth slowdown? Is ICT a Third Industrial Revolution? Should the Anglo-Saxon labour market be the inspiration for reform in continental Europe? Should governments reduce legal working hours to fight unemployment? Should monetary policy target asset prices as well as consumers prices? Should the ECB tolerate more inflation? Should governments use actively fiscal policy to stabilize output? Should governments make reductions of public debt and fiscal deficits their immediate priority? Should Greece leave the eurozone? (or should Iceland join?).. These are just suggestions. You are free to choose another topic as long as related to macro topics covered in class! Avoid very broad questions. Please contact me once you have chosen your question.

6 Lecture 1: Why are some countries richer than others? Part 1 1. What is macroeconomics? 2. Defining GDP 3.Economicgrowth-theSolowmodel 6

7 Micro and Macro Microeconomics Focuses on the behavior of a single agent (firms, households, government) or a single market(the market for mushroom soups) Partial equilibrium Macroeconomics Focuses on the behavior of the aggregate variables Prices and quantities General equilibrium

8 Macroeconomic discussion often focuses on the short/medium term What will happen to house prices? Should the ECB raise interest rates? Outlook for the World Economy? Will governments reduce debt and deficits? Will unemployment fall next year? 8

9 Macroeconomic discussion often focuses on the short/medium term US business cycle fluctuations (% deviations from trend) Source: C. Jones. Federal Reserve Economic Data

10 US but also long term-issues U.S. Gross domestic product per capita

11 but also long term-issues Gross domestic product per capita (log-scale)

12 Course Syllabus Long-term economic growth (1/2) Labour Market and Unemployment (3) Inequalities (4) Money and Inflation (5) Business cycle fluctuations (6/7) Monetary Policy (8) Fiscal Policy (9) Exchange rates and open economy macroeconomics (10/11) Financial crises (12)

13 Lecture 1: Why are some countries richer than others? Part 1 1. What is macroeconomics? 2. Defining GDP 3.Economicgrowth-theSolowmodel 13

14 Definition of GDP GDP (Gross Domestic Product) is the most important variable in macroeconomics. GDP measures aggregate production or aggregate output. GDP is a flow variable measured usually during a yearly or a quarterly period. GDP per capita indicates the level of development of a country. Massive variations across countries

15 Real GDP per capita and shares of global population Source: World Bank, 2011 Data

16 Measuring GDP: National Income Accounting Level Product Price Labour Capital Retailer 10 each Manufacturer 10 each Forester Wood $

17 Measuring GDP: National Income Accounting Three different ways to compute GDP 1. Expenditure approach : GDP = total spending on all final goods and services produced in the economy 2. Income approach: GDP = all income received by economic agents contributing to production 3. Value added approach GDP = sum of value-added to goods and services across all productive units in the economy ValueAdded=increaseinthevalueofgoodsasaresultoftheproductionprocess. Value Added = Value of production- Value of intermediate goods

18 Measuring GDP: National Income Accounting Level Product Price Labour Capital Retailer 10 each Manufacturer 10 each Forester Wood $ Method1=Expenditureapproach:GDP=10*$400=$4000 Method2=IncomeApproach:GDP=$2800+$1200=$4000 Method 3 = Value-added: GDP = 10*($400-$200)+(10*$200-$1000)+$1000 = $4000 Veryimportanttonoticethatwemeasurevalueadded.Addingvalueofoutputateach stage instead of value added would lead to double or triple counting

19 Share of value-added across sectors Selected developed countries

20 Expenditure approach GDP = total spending on all finalgoods and services produced in the economy Y : Nominal GDP C: Consumption Expenditures I : Investment Expenditures G: Government Expenditures Y = C + I + G + NX Transfer payments not included. Why? NX : Net exports NX = total export of goods & services minus total imports of goods & services

21 U.S and China expenditure components (% of GDP) 70% US China 50% 30% 10% -10% Private consumption expenditure Government consumption expenditure Gross capital formation Net exports Source: United Nations, 2016 data

22 Income approach--- Capital and Labour Shares Output = = + withcapital incomes(rk), labour incomes(wl) and output (Y) Capital share= ; Labour share= Capital share goes up if return per unit of capital (r) or capital stock (K) increase. Labour share goes up if wages w or labour supply L increase. Capital share Labour share = ( w ) ( L ) Usually relative quantities (K/L) and relative prices (r/w) and move in opposite direction. Why? Stable labour and capital shares?

23 70% 60% 50% The U.S. labour share ( ) U.S. Compensation of employees (% of GDP) 2017 Source: Bureau of Economic Analysis

24 Some important issues with GDP GDP different from national income (GNI) Add foreign income earned abroad and subtract payments totherestoftheworld. GDP fails to capture non-market activity Home production, informal sector or black market activity GDP excludes capital gains on assets, financial and non-financial. GDP a measure of welfare? Does not include some important dimensions of welfare (civil rights, education, inequalities ) Not all GDP based activity is welfare enhancing e.gprices may not capture social value environmental pollution.

25 Difference between GDP and GNI (% of GDP) Philippines -20% Japan -4% GDP lowerthangni United States -1% Poland 4% GDP higher than GNI Ireland 18% Source: World Bank, 2016 Data

26 Issues with GDP --- The African Growth Miracle? According to International Statistics, (real) consumption growth has been 1% over the period Lower than world average (roughly 2% and much lower than many developing countries). International statistics fail to capture the informal economy. Consumption = GDP- other components of GDP. A. Young (2012) uses survey data over the period on real consumption of durables, health, housing equipment. Important discrepancy with International Statistics. African growth over the period might have been between 3% and3.5%. Africa was converging, although at a slower pace, despite large variations across countries.

27 Welfare and GDP Economists and international organizations have developed indices to measure the welfare of countries beyond GDP per capita. Indices measuring various dimensions of welfare: health, education, income inequality, leisure, institutional quality The UN s Human Development Index : HDI is a weighted average of indicators of health (life expectancy), schooling and income per head. Index developed by Jones and Klenow, Stiglitz-Sen-Fitoussi (OECD Better Life Index)

28 Welfare and income across countries Source: Jones and Klenow, AER 2016 (2007 data)

29 GDP per capita and welfare highly correlated Source: Jones and Klenow, AER 2016 (2007 data)

30 Lecture 1: Why are some countries richer than others? Part 1 1. What is macroeconomics? 2. Defining GDP 3.Economicgrowth-theSolowmodel 30

31 What are the engines of economic growth? The full picture is complicated and involves many different aspects. Focus first on just one factor - capital accumulation. Increases in the stock of physical capital (buildings and machinery). Stress many other things important not least how efficiently this capital stock is used. Capital just a starting point.

32 Production function Output produced Buildings and machinery Labour input Technical knowledge and efficiency Today focus on first input capital accumulation

33 Production function Output (at date t) is produced using inputs (capital and labour ) more or less efficiently. Production function: = (, ) = ( ) ( ) is an efficiency parameter (think technology ). Also called Total Factor Productivity (TFP). 0 < < 1: share of capital in value added. is increasing in inputs and and efficiency.

34 Production function = ( ) ( ) Constant returns to scale with respect to both inputs. Double and, double. Decreasing returns to scale to each input (0 < < 1): each additional unit of input brings less and less output. Output per capita (with = =capital per capita): / = = ( / ) = ( )

35 Higher capital stock per capita increases output per capita Output per worker y = Capital per worker

36 Higher TFP increases output per capita Output per worker y = Capital per worker

37 How does capital accumulation work? How does increasing the capital stock lead to higher output? The marginal product of capital (MPK) is the increase in output that comes from increasing the capital stock leaving everything else unchanged. The MPK can be : decreasing (Solow model) each new machine adds less than the last constant each new machines adds the same as the last increasing each new machine adds more than the last

38 THE RETURN ON CAPITAL Diminishing Marginal Product of Capital Return on Capital (MPK) 0 < < 1 = () ()!" = # # =A(/) Capital

39 THE RETURN ON CAPITAL Constant Marginal Product of Capital Return on Capital (MPK) = 1 = K!" = & & = A Capital

40 Return on Capital (MPK) THE RETURN ON CAPITAL Increasing Marginal Product of Capital > 1 = () () (!" = # # =A() () ( Capital

41 Decreasing MPK Assumptions about MPK purely technological no economics involved. Different assumptions may be needed for different technologies. We stick on decreasing returns, with 0 < < 1 and k = = capital per capita!" = & & = A() Remark: Different assumptions lead to dramatically different implications. What would cross country growth patterns look like if MPK were initially increasing and then became decreasing?

42 Decreasing MPK Output per worker y { k } y 2 = { k } y1 y > y 1 2 Capital per worker

43 Will countries which invest more grow faster? Ultimately-No ShortTerm-Yes In long-run, investment affects only level not growth of output. To show this we need to add some economics to our technology assumption need to introduce investment.

44 The Solow growth model Production: = ( ) ( ) Capital accumulation: * = (1,) + -,= depreciation rate; - = investment - = Saving = constant fraction sof income - = s = / ( ) ( ) Capital obeys to: * = (1,) +/ ( ) ( )

45 The Solow growth model: steady state * = (1,) +/ ( ) ( ) Assuming for now constant and. In per capita terms: * = 1, +/ ( ) * = / ( ), Steady-state defined as: * = =, = / ( ) Steady-state capital and output per worker: = ( 12 3 )/() ; = ( )

46 Steady-state capital stock per worker Steady state investment per worker 4 =, 4 = / Capital per worker

47 Convergence to the steady state When capital stock is low: Each new machine leads to a big increase output. The amount of output needed to replace machines that have worn out is low. As a result output increases. When capital stock is (too) high: Each new machine leads to a small increase in output. Every period a substantial part of output is needed to replace machines that have worn out Eventually output decreases. Key to these results is decreasing marginal return on capital.

48 Higher savings increase the steady-state capital stock Steady state investment per worker 4 =, Higher / 4 = / Capital per worker

49 Higher TFP increases the steady-state capital stock Steady state investment per worker 4 =, Higher 4 = / Capital per worker

50 Optimal consumption and welfare A high savings rate leads to high income but low consumption A low savings rate leads to low income but high consumption Consumption per worker in the steady-state 5 = (1 /) ( ) = 1 / ( /, )/() - + The Golden rule - level of savings that maximizes consumption in the steady state. Theory suggests that optimal rate around 30-35%ofGDP

51 Saving rates (% of GDP) Selected countries, average Source: World Bank Mozambique Senegal Rwanda United Kingdom Turkey Portugal United States Argentina Italy Brazil South Africa France Poland Spain Germany India Indonesia Switzerland China Singapore World

52 The Solow growth model: dynamics Steady-state: = ( 12 3 )/() Dynamics: * = 1, +/ ( ) * = ( ) with = ( ) Convergence: converges to. As approaches, the growth rate of (and output ) decreases. The furtheraway from a country is, the faster it grows.

53 Dynamics of the capital stock per worker * * = * = ( ) 45 6

54 Implications of the Solow growth model 1. Countries always eventually reach their steady state 2. In the steady state/long run growth only comes from TFP. Countries at their steady state no longer grow from capital accumulation. Think of the OECD economies as those at their steady state. 3. Richer countries should grow slower than poorer ones: Higher returns on investment in poorer countries. Emerging markets are moving towards a steady state and growing fast. According to this story we would expect countries to catch up with economically most advanced nations

55 Catch up amongst Europe s big 4 GDP per capita (log-scale, USD) France Germany Italy UK Source: Maddison, GGDC and DataStream

56 Asian Tigers: growth miracle? In the post-war period we have witnessed astonishing levels of growth in the Asian Tigers. The press and political commentators: BadfortheWest:Takeourjobs Western leaders and CEO s should look at the Tigers and learn how to improve efficiency. Economists: No growth miracle. Just accumulation of inputs.

57 Average Growth GDP per capita Germany Mexico US Canada France Brazil Italy Chile Japan Singapore HongKong China Korea Taiwan 0% 1% 2% 3% 4% 5% 6% 7% Source : Penn WT 6.3 and DataStream.

58 Saving rates (% of GDP) Singapore China South Korea Hong Kong Source: World Bank

59 Asian Tigers: growth miracle? Some differences in the sources of growth. BUT: Increased capital stock MOST important factor for all of them. Krugman: Perspiration rather than inspiration! Too rapid development? No gains from the learning curve? Does it matter? No: They got much richer anyway Yes: Some have paid for it -those that were young early on in the process: Low income, high savings Future? Need to shift from extensive to intensive margin

60 Summary Macroeconomics is about short/medium-term fluctuations of the main aggregate economic variables but also about long-term issues, such as long-term economic development. GDP measures the quantity of goods and services produced, looking at incomes of residents, their expenditures on final goods and services or the value added of different producers. GDP is the outcome of a production process mixing inputs (capital& labor) and a given technology(tfp). The Solow model focuses on explaining cross-country income differences through capital accumulation. The assumption of decreasing marginal product of capital implies convergence. Countries with higher investment rates are richer but, at the steady state, all countries grow at the rate of technological progress.